When it comes to active futures trading, many traders focus on the E-mini products available on the Chicago Mercantile Exchange (CME). The E-minis offer a collection of unique advantages, making them ideal targets for both discretionary and automated trading systems.
What is a Trading System?
In simplest terms, a trading system is a rules-based approach to the markets. It’s a concrete framework designed to govern all trade-related decision-making. If you’re interested in building a comprehensive E-mini trading system, you must address these factors:
- trade identification/execution
- open position management
- money management
Simplicity is the primary advantage to system-based trading. Once you design a system, all you need is a consistent application to increase the odds of profitability.
Identifying and Capitalizing on Opportunity
A key function of any E-mini trading system is to clearly define market entry and exit. This involves not only spotting opportunities but also recognizing when to take profits or cut losses.
Although there are many ways to develop such a trading system framework, backtesting is one of the most popular. Backtesting is the practice of applying a trading strategy to a historical data set in an attempt to gauge performance. By doing this, you create a statistical track record that will suggest whether the strategy is effective.
In theory, backtesting appears to be a sound way of testing system parameters. However, the markets are dynamic in nature ― what worked in the past is often useless in the present. In addition, the perils of data backfitting and statistical variance prompt many professional traders to avoid backtesting in favor of these strategy builders:
- Walk forward optimization (WFO): WFO is a process in which trading strategies are developed and evaluated according to a sample set of data. Promising strategies are then applied or “walked forward” to separate data samples to validate performance.
- Monte Carlo simulations: When applied to finance, a Monte Carlo simulation is used to expose a trading strategy to an extensive collection of random data sets. Through this mechanism, the Monte Carlo simulation examines a broad spectrum of possible outcomes related to the trading system’s performance.
In order to build a strong E-mini trading system, robust parameters defining market entry and exit are required. Using a WFO or Monte Carlo simulation can help you determine whether a specific market entry/exit strategy is worth incorporating into your system.
Position and Money Management
By far, the most challenging aspect of futures trading is open position management. Without a standard set of guidelines for managing trades after they have gone live, achieving consistent returns can be difficult. It’s very easy to cut winners off and let losers run ― a good E-mini trading system can help stop this from happening.
Here are several devices traders frequently use to eliminate all the guesswork related to open position management:
- OCOs: Basic order-cancels-order functionality provides traders with a way of harvesting profits and cutting losses automatically.
- Multibracket orders: Multibracket orders furnish the trader with an abundance of profit target/stop loss placement options. The advanced applications of multibrackets can help maximize the potential of trading strategies designed for more than one contract.
- Trailing stop loss orders: Trailing stops give traders the ability to pursue large gains while managing downside risk. To optimize a trade’s potential upside, both risk and reward may be automatically modified as the open position evolves.
Money management sits at the core of profitability — or lack thereof. If you’re planning on profiting from your E-mini trading system, then your strategic framework must address these two key aspects of money management:
- Leverage: Defining the number of contracts to be put in play on a per trade basis is necessary to quantify assumed liability.
- Risk vs. reward: A trade’s upside potential and downside risk are key elements of money management. Trading systems that ignore the impact of incongruencies on risk and reward are highly likely to become compromised in the long-run.
For any system, large or small, steady application is the key. Automated trade management tools and strict rules for money management are two system features that greatly increase trader discipline and consistency.
Implementing Your E-mini Trading System
No matter the size and scope of your system, a cutting-edge trading platform is necessary to maximize its efficiency. If you’re looking to launch a new system, or improve the performance of an existing one, check out the software solutions available at Daniels Trading today.